The scenarios are driven along orthogonal dimensions of “political and economic alignment” and “adaptaive capacity.” If you believe as many do that extreme inequality leads to social rupture, then we will be somewhere in the bottom half of this matrix, in Hack Attack or Smart Scramble. For example, many on Tea Party right simply want to get a Congress that won’t bail out California (or any other state).

The Paradox of the Zero Bound – Hussman The first intelligent discussion of why the yield curve might not work predicting recession in a Zero Interest Rate Policy environment, using Japanese data and data from America in the 1930s, when the relationship broke down. I will revisit this issue in the next “animal spirits” update.

Beware those who think the worst is past Carmen Reinhart and Vincent Reinhar (h/t yves). These are the folks who have looked at what over-indebtedness does to economic growth across virtually all available data: growth slows down.

However, “recessions” or business slumps in the classic sense are characterized by a failure of confidence and negative skewness of the growth rate. The next failure of confidence does not appear to be imminent—not to say we can’t have a negative quarter of GDP growth here and there, as the forecast is for negligibly positive real growth into the next slump, which is going to be a doozy.

Friday, August 27, 2010

"the latest profit recovery (the three red dots) is reliant on declining labor costs like none before it."

It will be disgusting beyond measure if the very slight increases in marginal tax rates on top 1 percent incomes (in historical context) coinciding with the lapsing of the Bush tax cuts are blocked by the ruling class. Here again are top marginal tax rates in perspective (via Krugman):

Sunday, August 15, 2010

When I say the economy is depressed, I mean it psychologically and in the sense that high unemployment appears to be here for a while. One definition of a depression is a 10 percent decline in real output from peak to trough. I expect the next collapse of “animal spirits” to complete that.

Here is more evidence from Michael Panzer of www.financialarmageddon.com that we can expect consumers to slog on through for a couple of years, producing barely positive real growth (see previous post).

Via: VoxEU.org Reinhart and Rogoff present the facts, just the facts. This is the way economics is done in the real world, away from the rabid ideological cheerleading that takes place academic economics departments, places of poisonous internecine backbiting and mendacious, fact-avoiding self-aggrandizement. The next time Wall Street cries wolf and asks for a bailout or the sky will fall, will the American people permit it? I hope not.

Debt and growth revisited

With the advanced economies at a critical juncture, some economists are urging more fiscal stimulus while others argue that raising debt levels will stunt growth. This column presents the Reinhart-Rogoff findings on the relationship between debt and growth based on data from 44 countries over 200 years with a focus on the debt-growth link during high-debt episodes.

Economics has been under fire since the recent crisis for enshrining abstract models that offer little connection to the real world. In “Growth in a Time of Debt,” our data-intensive approach aims at providing stylised facts, well beyond selective anecdotal evidence, on the contemporaneous link between debt, growth, and inflation at a time in which the world wealthiest economies are confronting a peacetime surge in public debt not seen since the Great Depression of 1930s and indeed virtually never in peacetime. As Paul Krugman (2009) observed, “they’ll (the economists) have to do their best to incorporate the realities of finance into macroeconomics.” One might add as a corollary, however, that such discipline is especially needed when those realities are inconvenient to strongly held opinions.

And you don’t have to look far these days to find such strong opinions about the fork-in-the-road facing advanced economies when it comes to debt. There is no shortage of recommendations for either path, see, for example, the Vox columns by Calvo (2010), Corsetti (2010), and Giavazzi (2010) last month.

In a recent paper, we studied economic growth and inflation at different levels of government and external debt (Reinhart and Rogoff 2010a). The public discussion of our empirical strategy and results has been somewhat muddled. Here, we attempt to clarify matters, particularly with respect to sample coverage (our evidence encompasses 44 countries over two centuries – not just the US), debt-growth causality (our book emphasises the bi-directional nature of the relationship), as well as nonlinearities in the debt-growth connection and thresholds evident in the data. These are fundamental points that seem to have been lost in some of the commentary.

In addition to clarifying the earlier results, this column enriches our original analysis by providing further discussion of the high-debt (over 90% of GDP) episodes and their incidence. Some of the implications of our analysis, including for the US, are taken up in the final section.

We begin by reiterating some of the main results of Reinhart and Rogoff (2010a).

The basic exercise and key results

Our analysis was based on newly compiled data on forty-four countries spanning about two hundred years. This amounts to 3,700 annual observations and covers a wide range of political systems, institutions, exchange rate arrangements, and historic circumstances.

The main findings of that study are:

First, the relationship between government debt and real GDP growth is weak for debt/GDP ratios below 90% of GDP.1 Above the threshold of 90%, median growth rates fall by 1%, and average growth falls considerably more. The threshold for public debt is similar in advanced and emerging economies and applies for both the post World War II period and as far back as the data permit (often well into the 1800s).

Second, emerging markets face lower thresholds for total external debt (public and private) – which is usually denominated in a foreign currency. When total external debt reaches 60% of GDP, annual growth declines about 2%; for higher levels, growth rates are roughly cut in half.

Third, there is no apparent contemporaneous link between inflation and public debt levels for the advanced countries as a group (some countries, such as the US, have experienced higher inflation when debt/GDP is high). The story is entirely different for emerging markets, where inflation rises sharply as debt increases.

Figure 1 summarises our main conclusions as they apply to the 20 advanced countries in our 44-country sample. We will concentrate here on the advanced countries, as that is where much of the public debate is centred.2

In the figure, the annual observations are grouped into four categories, according to the ratio of debt-to GDP during that particular year. Specifically years when debt-to-GDP levels were:

The bars show average and median GDP growth for each of the four debt categories. Note that of the 1,186 annual observations, there are a significant number in each category, including 96 above 90%. (Recent observations in that top bracket come from Belgium, Greece, Italy, and Japan.)

From the figure, it is evident that there is no obvious link between debt and growth until public debt exceeds the 90%threshold. The observations with debt to GDP over 90% have median growth roughly 1% lower than the lower debt burden groups and mean levels of growth almost 4% lower. (Using lagged debt does not dramatically change the picture.) The line in Figure 1 plots the median inflation for the different debt groupings – which makes clear that there is no apparent pattern of simultaneous rising inflation and debt.

Notes: Central government debt includes domestic and external public debts. The 20 advanced economies included are Australia. Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, the UK, and the US. The number of observations for the four debt groups are: 443 for debt/GDP below 30%; 442 for debt/GDP 30 to 60%; 199 observations for debt/GDP 60 to 90%; and 96 for debt/GDP above 90%. There are 1,180 observations. Sources: Reinhart and Rogoff (2010a) and sources cited therein.

High-debt episodes in the sample

The episodes that attract our interest are those where debt levels were historically high. As convenient as it is to focus exclusively on a particular country or a single episode for a single country (like the US around World War II, where the data is readily available, or an interesting ongoing case, like Japan), the basis for an empirical regularity is multiple observations. Because our data span 44 countries with many going back to the 1800s or (at least the beginning of the 19th century), our analysis is based on all the episodes of high (above 90%) debt for the post World War II period; for the pre-war sample it covers all those that are encompassed by the availability of data. Table 1 (from Reinhart and Rogoff 2010a) describes the coverage and the basic statistics for the various debt levels for the advanced economies.4

It is common knowledge that the US emerged after World War II with a very high debt level. But this also held for Australia, Canada, and most markedly the UK, where public/debt GDP peaked at near 240% in 1948. These cases from the aftermath of World War II are joined in our sample by a number of peacetime high-debt episodes:

the 1920s and 1980s to the present in Belgium,

the 1920s in France,

Greece in the 1920s,

1930s and 1990s to the present,

Ireland in the 1980s,

Italy in the 1990s,

Spain at the turn of the last century,

the UK in the interwar period and prior to the 1860s and, of course,

Japan in the past decade.

As will be discussed, episodes where debt is above 90% are themselves rare and, as shown in Table 1, a number of countries have never had debt entries above 90%.

Debt thresholds and nonlinearities: the 90% benchmark

Thresholds and non-linearities play a key role in understanding the relationship between debt and growth that should not be ignored in casual re-interpretations.

(i) Thresholds. Those who have done data work know that mapping vague concepts like “high debt” or “overvalued exchange rates” into workable definitions requires arbitrary judgments about where to draw lines; there is no other way to interpret the facts and inform the discussion. In the case of debt, we worked with four data “buckets”: 0-30%, 30-60%, 60-90%, and over 90%. The last one turned out to be the critical one for detecting a difference in growth performance, so we single it out for discussion here.

Figure 2 shows a histogram of public debt-to-GDP as well as pooled descriptive statistics (inset) for the advanced economies (to compliment the country-specific ones shown in Table 1) over the post World War II period.5 The median public debt/GDP ratio is 0.36; about 92%of the observations fall belowthe 90% threshold. In effect, about 76% of the observations were below the 60% Maastricht criteria.

Put differently, our “high vulnerability” region for lower growth (the area under the curve to the right of the 90% line) comprises only about 8% of the sample population. The standard considerations about type I and type II errors apply here.6 If we raise the upper bucket cut-off much above 90%, then we are relegating the high-debt analysis to case studies (the UK in 1946-1950 and Japan in recent years).

Only about 2%of the observations are at debt-GDP levels at or above 120% – and that includes the aforementioned cases. If debt levels above 90% are indeed as benign as some suggest, one might have expected to see a higher incidence of these over the long course of history. Certainly our read of the evidence, as underscored by the central theme of our 2009 book, hardly suggests that politicians are universally too cautious in accumulating high debt levels. Quite the contrary, far too often they take undue risks with debt build-ups, relying implicitly perhaps on the fact these risks often take a very long time to materialise. If debt-to-GDP levels over 90% are so benign, then generations of politicians must have been overlooking proverbial money on the street.

We do not pretend to argue that growth will be normal at 89% and subpar (about 1% lower) at 91% debt/GDP any more than a car crash is unlikely at 54mph and near certain at 56mph. However, mapping the theoretical notion of “vulnerability regions” to bad outcomes by necessity involves defining thresholds, just as traffic signs in the US specify 55mph (these methodology issues are discussed in Kaminsky and Reinhart 1999).

(ii) Nonlinear relationship. We summarised the results in our paper by writing:

"the relationship between government debt and real GDP growth is weak for debt/GDP ratios below a threshold of 90% of GDP. Above 90%, median growth rates fall by 1%, and average growth falls considerably more.” Reinhart and Rogoff (2010a)

Revisiting Figure 1 is useful for illustrating the importance of nonlinearities in the debt-growth link. Simply put, for 92% of the observations in our sample there is no systematic link between debt and growth (Bruno and Easterly 1998 find similar results). Thus, if we did a simple scatter plot of all the observations on debt/GDP and on growth we might expect to find a “clouded mess.” We can highlight this general point with the US case. As noted in the working paper version of Reinhart and Rogoff (2010a), for the period 1790-2009, there are a total of 216 observations of which 211 (or 98%) are below the 90% debt to GDP cutoff.7 It should be quite obvious that a scatter plot of the US data would not be capable of revealing a systematic pattern (as demonstrated in the work Iron and Bivens 2010). Indeed, this example illustrates one of our main results, that there is no systematic relationship between debt and growth below a threshold of 90% of GDP.

Debt and growth causality

As discussed, we examine average and median growth and inflation rates contemporaneously with debt. Temporal causality tests are not part of the analysis. The application of many of the standard methods for establishing temporal precedence is complicated by the nonlinear relationship between growth and debt (more of this to follow) that we have alluded to.

But where do we place the evidence on causality? For low-to-moderate levels of debt there may or may not be one; the issue is an empirical one, which merits study. For high levels of debt the evidence points to bi-directional causality.

Growth-to-debt: Our analysis of the aftermath of financial crisis Reinhart and Rogoff (2008) presents compelling evidence for both advanced and emerging markets over 1800-2008 on the fiscal impacts (revenue, deficits, debts, and sovereign credit ratings) of the recessions associated with banking crises; see Figure 3.

As we sum up,

“Banking crises weaken fiscal positions, with government revenues invariably contracting. Three years after a crisis central government debt increases by about 86%. The fiscal burden of banking crisis extends beyond the cost of the bailouts.” Reinhart and Rogoff (2008).8

There is little room to doubt that severe economic downturns, irrespective whether their origins was a financial crisis or not, will, in most instances, lead to higher debt/GDP levels contemporaneously and or with a lag. There is, of course, a vast literature on cyclically-adjusted fiscal deficits making exactly this point.

Figure 3. Cumulative increase in public debt in the three years following the banking crisis

Source: Reinhart and Rogoff (2008).

Debt-to-growth: A unilateral causal pattern from growth to debt, however, does not accord with the evidence. Public debt surges are associated with a higher incidence of debt crises.9 This temporal pattern is analysed in Reinhart and Rogoff (2010b) and in the accompanying country-by-country analyses cited therein. In the current context, even a cursory reading of the recent turmoil in Greece and other European countries can be importantly traced to the adverse impacts of high levels of government debt (or potentially guaranteed debt) on county risk and economic outcomes. At a very basic level, a high public debt burden implies higher future taxes (inflation is also a tax) or lower future government spending, if the government is expected to repay its debts.

There is scant evidence to suggest that high debt has little impact on growth. Kumar and Woo (2010) highlight in their cross-country findings that debt levels have negative consequences for subsequent growth, even after controlling for other standard determinants in growth equations. For emerging markets, an older literature on the debt overhang of the 1980s frequently addresses this theme.

Implications and US policy

One need look no further than the stubbornly high unemployment rates in the US and other advanced economies to be convinced how important it is to develop a better understanding of the growth prospects for the decade ahead. We have presented evidence – in a multi-country sample spanning about two centuries – suggesting that high levels of debt dampen growth. One can argue that the US can tolerate higher levels of debt than other countries without having its solvency called into question. That is probably so.10 (see Reinhart and Reinhart 2007). We have shown in our earlier work that a country’s credit history plays a prominent role in determining what levels of debt it can sustain without landing on a sovereign debt crisis. More to the point of this paper, however, we have no comparable evidence yet to suggest that the consequences of higher debt levels for growth will be different for the US than for other advanced economies. It is an issue yet to be explored.

Figure 4, which plots total (public and private) credit market debt outstanding for the US during 1916 to 2010:Q1 makes this point clear.11 Despite considerable deleveraging by the private financial sector, total debt remains near its historic high in 2008. Total public sector debt during the first quarter of 2010 is 117% of GDP. It has only been higher during a one-year stint at 119% in 1945. Perhaps soaring US debt levels will not prove to be a drag on growth in the decades to come. However, if history is any guide, that is a risky proposition and over-reliance on US exceptionalism may only prove to be one more example of the “This Time is Different” syndrome.12

For many if not most advanced countries, dismissing debt concerns at this time is tantamount to ignoring the proverbial elephant in the room.

Reinhart, Carmen M, Miguel A Savastano, and Kenneth S Rogoff (2003), "Debt Intolerance", in William Brainard and George Perry (eds.), Brookings Papers on Economic Activity. (An earlier version appeared as NBER Working Paper 9908, August 2003.)

1 In this paper “public debt” refers to gross central government debt. “Domestic public debt” is government debt issued under domestic legal jurisdiction. Public debt does not include obligations carrying a government guarantee. Total gross external debt includes the external debts of all branches of government as well as private debt that issued by domestic private entities under a foreign jurisdiction.

2 The comparable emerging market exercises are presented in the original paper.

3 The four “buckets” encompassing low, medium-low, medium-high, and high debt levels are based on our interpretation of much of the literature and policy discussion on what are considered low, high etc. debt levels. It parallels the World Bank country groupings according to four income groups. Sensitivity analysis involving a different set of debt cutoffs merits exploration, as do country-specific debt thresholds along the broad lines discussed in Reinhart, Rogoff, and Savastano (2003).

4 The interested reader is referred to the original paper for the comparable emerging market table.

6 The null hypothesis is whatever “normal” growth is versus the alternative of lower growth.

7 Figure 3 in the NBER WP is not included in the published version of the paper.

8 See Section IV devoted to fiscal consequences in Reinhart Rogoff (2008), see also Laeven and Valencia (2010).

9 For a model where credit-financed government deficits lead to a currency crisis, see Krugman (1979).

10 Indeed, this is the central argument in Carmen M. Reinhart and Vincent R. Reinhart (2010) originally published in November 17, 2008).

11 Flow of Funds aggregate the private and public sectors, where the latter is comprised of federal (net), state and local and government enterprises. To reiterate, this is not the public debt measure used in our historical analysis, which is gross central government debt (which for the U.S. is at present about 90 percent of GDP).

12 The “This Time is Different Syndrome” is rooted in the firmly-held beliefs that: (i) Financial crises and negative outcomes are something that happen to other people in other countries at other times (these do not happen here and now to us);(ii) we are doing things better, we are smarter, we have learned from the past mistakes; (iii) as a consequence, old rules of valuation are not thought to apply any longer.

This the question of our historical moment here in America, although the MSM does its best not to acknowledge it. Reading Mark Zandi’s mincing piece on tax reform (don’t do it! or do it so slowly it never happens!) in the New York Times this morning made me want to investigate how banana republics come to an end. I thought of the land reform that took place in Hawaii, of the revolutions that have taken place in Central and South America… and wondered how—if it ever happens—the banana republic that America has become will ever be undone. I think we will see years of political volatility, carefully manipulated by the kleptocracy-controlled media to divide us, before the public wakes up and bothers to educate themselves to what’s really happening. Meanwhile, see the comments section on the previous post for clarification of my views on the chances of a “double dip” (Robert Reich is with me on this, that we’re in a depression already; and the basic cause is the unbalanced income distribution).

Pretty straightforward and helpful for those who don’t realize that they’re taxed at different levels of their income, not just one bracket.

See, I’ve discovered, through the course of just asking around, that many folks don’t realize that they’re taxed at different levels. Many think that if they make over a certain amount of money, all of their money is taxed at that rate. That’s why you heard all that talk about taxes being a disincentive to making more money, which is obviously nuts and was meant to confuse the average taxpayer who doesn’t understand how our system works.

A Republican plan to extend tax cuts for the rich would add more than $36 billion to the federal deficit next year — and transfer the bulk of that cash into the pockets of the nation’s millionaires, according to a congressional analysis released Wednesday.

New data from the nonpartisan Joint Committee on Taxation show that households earning more than $1 million a year would reap nearly $31 billion in tax breaks under the GOP plan in 2011, for an average tax cut per household of about $100,000.

Does everybody now understand how big of a giveaway this is to the wealthiest 2%?

Were the rich hurting in the 90s when the tax rate was 39.6%?

Can we all agree that people making between $200 and $500K can take a $400 hit?

And to those who make over $500K, well, you still don’t have to pay Social Security tax on hardly ANY of your income. And since many of the super rich derive their income from investments, which is taxed at 15% since it’s considered long term capital gains, you’re still gaming the system effectively.

Yes, rich people…you’re still rich and you still win.

Meanwhile, teachers, firefighters and cops don’t deserve to keep their jobs according to Republicans, but they want to give $10 billion more to people who are so wealthy that few of us will ever understand what it is to be in that company?

Banana republic

A banana republic is a politically unstable country dependent upon limited agriculture (e.g. bananas), and ruled by a small, self-elected, wealthy, and corrupt politico-economic clique.[1] The original concept of banana republic was a direct reference to a "servile dictatorship" that abetted (or supported for kickbacks) the exploitation of large-scale plantation agriculture, especially banana cultivation.[1] As a political science term banana republic is a pejorative first used by the American writer O. Henry in Cabbages and Kings (1904), a book of related short stories derived from his 1896–97 residence in Honduras, where he was hiding from the U.S. law for bank embezzlement in the U.S.[2]

Contents

Background

The concept of banana republic originated with the introduction of the banana fruit to Europe in 1870, by Captain Lorenzo D. Baker, of the ship The Telegraph, who initially bought bananas in Central America and sold them in Boston at a 1,000 per cent profit.[3] Yet the banana business was incidentally established by the American railroad tycoon Henry Meigs and Minor C. Keith, his nephew, who started banana plantations, initially along the railroads, to feed their workers, and, upon grasping the potential profit of bananas sold in the U.S., also began exporting the fruit from their plantation to the Southeastern United States.[4] In the event, Keith founded the Tropical Trading and Transport Company, the future half of the corporate merger that established the United Fruit Company at the end of the nineteenth century; he became its vice president.

The banana proved popular with Americans, because it was a tropical fruit cheaper than local U.S. fruits, such as the apple; in 1913 a dozen bananas sold for twenty-five cents, whilst the same money bought only two apples.[5] The exporters profited from such low prices because the banana companies, via manipulation of the national land use laws, could cheaply buy large tracts of agricultural land for plantations in the Caribbean, Central American, and South American countries, whilst employing the native peoples as cheap manual labourers, having rendered them land-less.[5] In 1899, the largest banana company, the United Fruit Company (Chiquita Brands International), resulted from a merger between Andrew Preston's Boston Fruit Company and Minor C. Keith's Tropical Trading and Transport Company; by the 1930s, its international politico-economic influence granted it control of 80–90 per cent of the U.S. banana trade.[6] Moreover, in 1924, the Vaccaro Brothers established the Standard Fruit Company (Dole Food Company), to export Honduran bananas to New Orleans.

In Honduras, the United Fruit Company, the Standard Fruit Company, and Sam Zemurray's Cuyamel Fruit Company dominated the economy's key banana export sector, and the national infrastructure, such as the railroads and the ports. Moreover, the United Fruit Company's nickname was El Pulpo (“The Octopus”'), because it freely interfered — sometimes violently — with Honduran national politics. In 1910, Zemurray hired mercenaries, led by “General” Lee Christmas, an American soldier of fortune from New Orleans, to effect a coup d’état in Honduras and install a government friendlier to the Cuyamel Fruit Company's business interests. In 1933, twenty-three years later, with a hostile takeover Sam Zemurray assumed control of the rival United Fruit Company.[7]

The banana republic

The purpose of a banana republic is commercial profit by collusion between the State and favoured monopolies, whereby the profits derived from private exploitation of public lands is private property, and the debts incurred are public responsibility. Such an imbalanced economy reduces the national currency to devalued paper-money, hence the country is ineligible for international development credit and remains limited by the uneven economic development of town and country.

Kleptocracy, government by thieves, features influential government employees exploiting their posts for personal gain (embezzlement, fraud, bribery, etc.), with the resultant deficit repaid by the native working people who “earn money”, rather than “make money”. Because of foreign (corporate) manipulation, the government is unaccountable to its nation, the country's private sector–public sector corruption operates the banana republic, thus, the national legislature usually are for sale, and function mostly as ceremonial government.

. . . a money class fleeces the banking system, while the very trunk of the national tree is permitted to rot and crash. . . .

Political discontent and insurrection

Guatemala

Guatemala suffers the regional socio-economic legacy of the banana republic: inequitably distributed agricultural land and natural wealth, uneven economic development, and an economy dependent upon a few export crops, usually bananas, coffee, sugar cane. The inequitable land distribution is the principal cause of national poverty and the low quality of Guatemalan life, and the concomitant socio-political discontent and insurrection. Almost 90 per cent of the country's farms are too small to yield adequate subsistence harvests to the farmers, whilst two per cent of the country's farms occupy 65 per cent of the arable land, property of the local oligarchy.

Initially, short-story writer O’Henry’s coinage, “servile dictatorship”, bore a civil government face — a white-collar businessman president — yet when he proved an administrative incompetent, the military, usually the army, assumed government, and ruled as juntas (military government by committee) during the thirty-six-year Guatemalan Civil War (1960–96); nonetheless, in 1986, the Guatemalans promulgated a new political constitution, and elected Vinicio Cerezo (1986–91) president, then Jorge Serrano Elías (1991–93) five years later.[9]

Honduras

The long history of political discontent and insurrection in Honduras derives from commercial and political competition between banana exporters, e.g. the United Fruit Company and the Cuyamel Banana Company, for control of Honduran agricultural land and workers. In 1911 Sam Zemurray, owner of the Cuyamel Company hired mercenaries, led by “General” Lee Christmas, to effect a coup d’état to depose the liberal President Miguel R. Dávila (1907–11), [10] with whom the United Fruit Company was colluding for a banana monopoly in exchange for brokering U.S. Government loans for Dávila's government;[6] the Cuyamel Banana Company deposed President Dávila and installed President Gen. Manuel Bonilla (1912–13) in his stead.[11] Contemporarily, internal political instability and a great foreign debt — more than $4 billion — have excluded Honduras from capital investment, thereby continuing its economic stagnation, and reinforcing its banana republic status.[12]

The fight on Capitol Hill over whether to extend the Bush tax cuts is about many things: deficit reduction, economic stimulus, supply-side ideology. But at its core is a simple question: who counts as rich? The Obama Administration’s answer is that you’re rich if you make more than two hundred thousand dollars a year as an individual or two hundred and fifty thousand dollars a year as a household, and therefore you should have your taxes raised. Conservatives suggest that this threshold is far too low, and argue that Obama would be taxing mostly small-business owners, or the people a Fox News host has referred to as “the so-called rich,” rather than fat plutocrats. You might think this isn’t really much of a debate. An annual income of two hundred and fifty thousand dollars puts you in the top three per cent of American households, and is more than four times the national median. You’re rich, and a small tax increase isn’t going to rock your world.

Good luck convincing people of this, though. Judging from surveys of how Americans describe themselves, most of the privileged don’t feel all that privileged. Why is that? One reason is the American mythology of middle-classness. Another is geography: in a place like Manhattan, where the average apartment sells for nine hundred thousand dollars, your money doesn’t go as far. And then there’s a larger truth about how wealth is getting concentrated in this country. As the economists Thomas Piketty and Emmanuel Saez have documented, people who earn a few hundred thousand dollars a year have done much worse than people at the very top of the ladder.

Between 2002 and 2007, for instance, the bottom ninety-nine per cent of incomes grew 1.3 per cent a year in real terms—while the incomes of the top one per cent grew ten per cent a year. That one per cent accounted for two-thirds of all income growth in those years. People in the ninety-fifth to the ninety-ninth percentiles of income have represented a fairly constant share of the national income for twenty-five years now. But in that period the top one per cent has seen its share of national income double; in 2007, it captured twenty-three per cent of the nation’s total income. Even within the top one per cent, income is getting more concentrated: the top 0.1 per cent of earners have seen their share of national income triple over the same period. All by themselves, they now earn as much as the bottom hundred and twenty million people. So at the same time that the rich have been pulling away from the middle class, the very rich have been pulling away from the pretty rich, and the very, very rich have been pulling away from the very rich.

The current debate over taxes takes none of this into account. At the moment, we have a system of tax brackets well suited to nineteenth-century New Zealand. Our system sets the top bracket at three hundred and seventy-five thousand dollars, with a tax rate of thirty-five per cent. (People in the second-highest bracket, starting at a hundred and seventy-two thousand dollars for individuals, pay thirty-three per cent.) This means that someone making two hundred thousand dollars a year and someone making two hundred million dollars a year pay at similar tax rates. LeBron James and LeBron James’s dentist: same difference.

This makes no sense—there’s a yawning chasm between the professional and the plutocratic classes, and the tax system should reflect that. A better tax system would have more brackets, so that the super-rich pay higher rates. (The most obvious bracket to add would be a higher rate at a million dollars a year, but there’s no reason to stop there.) This would make the system fairer, since it would reflect the real stratification among high-income earners. A few extra brackets at the top could also bring in tens of billions of dollars in additional revenue.

There would be political advantages, too: the reform could actually make tax hikes on top earners more popular. Critics like to describe tax hikes as hurting small business, because small-business owners make up a sizable percentage of people in the top two brackets and because small-business owners, unlike Wall Street traders, are popular on Main Street. It would be harder to mount a defense of millionaires, which may be why this year a Quinnipiac poll found overwhelming support, even among Republicans, for a millionaire tax.

The explosion in wealth at the very top of the pyramid has given rise to what the commentator Matt Miller has called a “lower upper class”—doctors, lawyers, accountants, even some journalists, who make very good livings but enjoy nothing like the rewards that come to their peers in finance or in the executive suite. The lower upper class exerts a cultural influence out of proportion to its size, and so its anger toward the upper upper class—toward outrageous executive salaries and Wall Street shenanigans—could be a powerful force for reforming the way we deal with inequality.

This is one case where simpler isn’t better. In a society that’s becoming more stratified, a sensible tax system should draw more distinctions, not fewer. The U.S. is now a place where the rich and the ultra-rich really inhabit different worlds. (A couple of years ago, Barron’s declared, “Yes, it takes more than $10 million to be seen as rich these days.”) They should probably inhabit different tax brackets, too. ♦

What you can’t say in “The New Yorker” is that these folks have manipulated corporate governance, the financial markets, and the federal tax system to their distinct advantage over the past thirty years. Their whining is intolerable. At a certain point, you do things for moral reasons, not because of some defunct macroeconomist’s rantings. And it is time to let these people know that it was not they alone who created the wealth they have extracted from America.

Saturday, August 7, 2010

The only time there has been a “double dip” NBER recession in the postwar period was in the 1980-1982 episode, and it was fully signaled by a secondary inversion of the yield curve. The 1/10 yield curve inverts an average of about a year before NBER recessions begin. Here is a 12-month smoothed 1/10 yield curve slope over the postwar period:

The unsmoothed yield curve did go positive in between the 1980 and 1981-1982 recessions, but only briefly; as Volcker applied more tight money after an election year acceleration of inflation. The smoothed yield curve remained fully inverted. (The only time the curve inverted and a technical recession did not occur was in 1966—but a drop in the GDP growth rate from ~8 percent to near zero did occur; a “growth recession” it was termed).

Today the yield curve is steeply sloped, so no double dip is indicated. Why should the yield curve send such great signals? That is beyond the scope of this note. I don’t argue with 60 years of empirical regularity. The yield curve was also inverted steeply in 1928-1929.

The quickest drop off of the smoothed slope from a level such as we’re at now over 3 was from 2004:6 to 2007:6, as the Fed raised short rates and deflation began its assault on the US economy and long rates. Thus, if we match that decline rate, the curve might invert in mid-2013 and the next recession begin in mid-2014.

The unemployment story that goes along with this might go something like this:

Unemployment rate rises slightly for a few months, and then a determined effort is made to report declining unemployment rates, which, however, must remain within the realm of credibility with a populace (or least the marginally well informed part of which) has come to rely on the larger U6 unemployment rate measure and the employment-population ratio for indicators of labor market health. This will prime “animal spirits” for the election year, after which all hell breaks loose.

Here’s the picture:

Now a run on the dollar or a failed Treasury auction might cause an inversion to occur quicker, but why would the Chinese do that? They’re having their own bubble-popping problems. However, the imperial temptation to drive the world into dollars by starting another war, probably in the Middle East, lingers always. We probably won’t see unemployment rates under 8 percent for many years. The best summation of the current labor market is Calculated Risk’s chart here. Job growth has stalled.

Where will the demand for labor come from? Americans are an adaptable people, and as they adapt to the “new normal,” business will chug on. People may exit the measured labor force. We will continue to be in an underemployment equilibrium because the income distribution is unequal enough that balanced demand is not possible. Wage concessions to benefit wider employment will be made by Americans on the receiving end of the ruling elite’s diktats, and in this way a new social cohesion among the disenfranchised majority may grow, possibly into a democratic movement with the potential to forge a new social contract through the broken-down apparatus of the American government, or possibly into a new class of post-industrial serfs.

WASHINGTON (AP) -- Treasury Secretary Timothy Geithner said Wednesday that extending the Bush-era tax cuts for the wealthy would be a $700 billion mistake. He also rejected a compromise proposal that would extend the cuts for one or two years.

Geithner said cuts for families making more than $250,000 annually should be allowed to expire on schedule at the end of the year. But the administration believes tax cuts for the 95 percent of taxpayers making less than $250,000 should be extended, he said.

Geithner's comments came during a speech at the Center for American Progress and focused on what is likely to be a key economic battle leading up to the November midterm elections. Unless Congress acts, all of the tax cuts approved in 2001 and 2003 will expire at the end of December.

Republicans have argued that all of the tax cuts should be extended. They contend that raising taxes on any group at the current moment would be harmful to the economy.

Geithner said extending the tax cuts for the top 2 percent of taxpayers would cost $700 billion over a decade and $30 billion for a single year. He said wealthy families are more likely to save the money, which doesn't help the economy in the short run.

Geithner said allowing the tax cuts on the wealthy to expire would also help get the soaring deficits under control.

"Borrowing to finance tax cuts for the top 2 percent would be a $700 billion fiscal mistake," Geithner said. "It's not the prescription that the economy needs right now and the country can't afford it."

As I showed in this post, there are lots of tax cuts for the middle class in the Bush tax cuts that should not be repealed.

This a great wedge issue for the Democrats. They can once again accuse the Republicans of standing for little more than keeping taxes low on rich people and make the accusation stick.

This good PR move hardly exonerates Geithner, Summers, Bernanke et al. for effecting the most massive wealth redistribution from working taxpayers to the wealthy in the history of the world, as Barry Ritholtz terms the bailouts of the past couple of years.

The tax increases on the rich the Geithner advocates are mild in the context of American postwar history. This chart due to Paul Krugman shows the top marginal tax rate (red) and median family income (blue):

If the take-home pay of the CEOs and corporate board members and senior executives and Wall Street traders were brought down to Earth by a marginal tax rate in the 75-90 percent range, I think it would do much to sober those people up, who have been looting the treasure of American corporations by manipulation of their governance and related capital markets for too long.

Let’s see if they actually do it. One of the oldest tricks in the book in Hollywood is for a star or starlet to hold a press conference announcing that their giving X million dollars to charity, and then to never do it.

I no longer live on the East Coast, but do visit occasionally, and have contact with friends who are part of the Establishment, the Ruling Class, slurping at the trough of Stimulus Money, or if on Wall Street, turning up their noses at the ignorance the masses display of the value they’re creating, enabling the Soaring of the Human Spirit through Financial Transactions. You get the picture. They’ve got their heads in a place where the sun doesn’t shine, the arrogance dripping from their curling upper lips….

67% of Political Class Say U.S. Heading in Right Direction, 84% of Mainstream Disagrees

The gap is just as big when it comes to the traditional right direction/wrong track polling question.

A Rasmussen Reports national telephone survey shows that 67% of Political Class voters believe the United States is generally heading in the right direction. However, things look a lot different to Mainstream Americans. Among these voters, 84% say the country has gotten off on the wrong track.

Twenty-four percent (24%) of Mainstream voters consider fiscal policy issues such as taxes and government spending to be the most important issue facing the nation today. Just two percent (2%) of Political Class voters agree.

Most voters believe that cutting government spending and reducing deficits is good for the economy. The only group that disagrees is America’s Political Class. In addition to the policy implications, this highlights an interesting dilemma when it comes to interpreting polling data based upon questions that make sense only to the Political Class. After all, if someone believes spending cuts are good for the economy, how can they answer a question giving them a choice between spending cuts and helping the economy?

Mainstream Americans tend to trust the wisdom of the crowd more than their political leaders and are skeptical of both big government and big business.

Fifty-eight percent (58%) of voters currently hold Mainstream views. In January,65% of voters held Mainstream views. In March 2009, just 55% held such views.

Only six percent (6%) now support the Political Class. These voters tend to trust political leaders more than the public at large and are far less skeptical about government.

When leaners are included, 76% are in the Mainstream category, and 14% support the Political Class.

“The American people don’t want to be governed from the left, the right or the center. The American people want to govern themselves," says Scott Rasmussen, president of Rasmussen Reports. “The American attachment to self-governance runs deep. It is one of our nation’s cherished core values and an important part of our cultural DNA.”

Tuesday, August 3, 2010

On August 1st, almost the entire Earth-facing side of the sun erupted in a tumult of activity. There was a C3-class solar flare, a solar tsunami, multiple filaments of magnetism lifting off the stellar surface, large-scale shaking of the solar corona, radio bursts, a coronal mass ejection and more. […]

June 4, 2010: Earth and space are about to come into contact in a way that's new to human history. To make preparations, authorities in Washington DC are holding a meeting: The Space Weather Enterprise Forum at the National Press Club on June 8th.

Many technologies of the 21st century are vulnerable to solar storms. [more]

Richard Fisher, head of NASA's Heliophysics Division, explains what it's all about:

"The sun is waking up from a deep slumber, and in the next few years we expect to see much higher levels of solar activity. At the same time, our technological society has developed an unprecedented sensitivity to solar storms. The intersection of these two issues is what we're getting together to discuss." […]

Monday, August 2, 2010

Alan Greenspan’s face says it all: “I am a servant of the ruling class, I will accommodate the ruling class, whether as a Fed chief or as an ex-Fed chief.” BTW, I find a certain similarity between the faces of Greenspan and the President. These are not strong men.

Greenspan correctly diagnoses the split between the economy of the ruling class and that of everyone else. Here is Barry Ritholtz at The Big Picture:

“Our problem, basically, is that we have a very distorted economy in the sense that there has been a significant recovery in a limited area of the economy amongst high-income individuals who have just had $800 billion added to their 401(k)s and are spending it and are carrying what consumption there is. Large banks, who are doing much better, and large corporations, whom you point out and the–and everyone’s pointing out, are in excellent shape.

The rest of the economy, small business, small banks, and a very significant amount of the labor force, which is in tragic unemployment, long-term unemployment, that is pulling the economy apart. The average of those two is what we are looking at, but they are fundamentally two separate types of economy.”

Fascinating quote from Easy Al on Meet the Press via Bloomberg. It has 3 subtexts that might not be readily apparent — until we break it down:

1) Extend the Bush tax cuts on highest bracket earners: Since its the 401(k) crowd that are carrying the recovery, Greenspan suggests, then we best not crimp the income of these big spenders

2) Two Americas: Greenspan seems to be channeling John Edwards when he discusses two economies. The bailouts reduced competition. They extended the life of badly structured financial firms, and forced smaller firms to scramble.

3) Greenspan’s Legacy: It seems that Easy Al can figure out precisely what he has wrought. The secret to getting such candor out of the former Fed chief is to trick him into discussing the broader economy. That way, he does not realize that he is discussing the effects of his tenure as FOMC chair.

Of course, Greenspan is still wrong on Housing. Recall that he failed to recognize the impending housing correction (collapse more accurately) and made claims that the worst was behind us — just as housing was accelerating downwards:

“If home prices stay stable, then I think we will skirt the worst of the housing problem. But right under this current price level, maybe 5, 7 or 8 percent below is a very large block of mortgages which are underwater, so to speak, or could be underwater, and that would induce a major increase in foreclosures. Foreclosures would feed on the weakness in prices, and it would create a problem. So that–it’s touch and go.”

One last thing: I have to give Greenspan credit for this touch of tax cut honesty:

“Look, I’m very much in favor of tax cuts, but not with borrowed money. And the problem that we’ve gotten into in recent years is spending programs with borrowed money, tax cuts with borrowed money, and at the end of the day, that proves disastrous.”

For once, I agree with him . . .

Ah, Barry, you are usually so reasonable. Why don’t we raise marginal tax rates on the ruling class who have manipulated the tax system and the governance of big corporations so much in their favor? Are CEOs really worth 400 times the average workers salary today when the multiple was a tenth of that thirty years ago? In other times of fiscal distress marginal tax rates on super-high incomes were higher, almost as if there were a sense that “shared sacrifice” was a good thing. Are you and Alan the Mess-Meister suggesting that we should leave marginal tax rates on high incomes alone and raise them on the middle class?

Let’s get real. Here’s the picture that tells the story of how America has moved from “we’re all in this together” to “you first, after me—it’s the free market way!":

Until Americans start to function as a nation again, we descend into deeper banana republicdom. Is it the end of the nation-state? Is the only path to survival to join a strong corporation (i.e., “gang”)? Will corporations that perpetuate stark inequality survive, if there is truly an “optimal” degree of income inequality that American corporations have clearly exceeded? Will more egalitarian corporations benefit from higher productivity and resiliency, if the nation-state dies, and prove the template for the next major form of social organization? (Unfortunately, the immediate associations that come to mind are of the perpetually-warring native American tribes prior to European overrun; and the incredibly funny scenes of warring office buildings in Monty Python’s “The Meaning of Life.”…)

Big changes coming. The old order is falling apart. Do unto others as you would have them do unto you.